WHITE PAPER: The Calm Before the Storm

WHITE PAPER: The Calm Before the Storm 5 Aug 2020

By: James Nelson, Principal & Head of Tri-State Investment Sales


With the Manhattan sales volume down 80% from Q1, the market has been eerily quiet. There is no doubt tremendous uncertainty in the world and in the real estate market. It is unclear when businesses will return to the City, along with the many residents who have moved out.  Google has now announced that they will not require workers to return for another year. We may have to wait for a vaccine for life to return to semi-normal.

When there is uncertainty in the market, investors often stay on the sidelines unless there are real bargains. Sellers do not want to transact at a perceived low point and buyers don’t want to “catch a falling knife.”  Although we were able to salvage all the sales that we had in contract pre-COVID by reducing prices in many cases by 10-15%, we lost almost all of our active top bidders on our listings.

Since our team began working from home in mid-March, we’ve closed six property sales, put two properties into contract and began marketing two new listings. Three of the closed deals were in the pipeline pre-COVID-19, but we’re pleased that we were able to take them over the finish line in a very challenging environment.

But with this all being said, we may now be in a small window where values for the more stable asset classes such as multifamily are turning back up.

There are no doubt plenty of buyers with capital now.  I surveyed a hundred high net worth investors last month and 90% told me that they were still looking to invest. Most, however, are frustrated that they aren’t seeing any new listings or distress. It would seem there are few “market clearing” sellers. Those sellers are generally limited to estates, partnership disputes, and the few retirees who have seen enough and now want to leave the city. Ultimately, it will also include the lenders but the few loan sales we’ve heard of are at par or close to.

These investors are waiting for the distressed floodgates to open. Default rates have gone through the roof as hotels closed and retailers struggle to stay afloat and pay their rent. Banks were quick to extend forbearance, in some cases as long as six months. But what happens once this loan forbearance dries up and tenants have yet to return or pay rent?

We are expecting a wave of distress to hit the market. Our firm works closely with special servicers who have been inundated with loan defaults. In the last financial crisis, some of these servicers were handling up to $30 billion in workouts. It took years to get to that level. With this go around, when everything hit at once with the global shut down, it will ramp up much more quickly. What will follow is mass selloff of loans and distressed properties.

According to Michael Fay, who heads our Asset Resolution Group, the amount of distressed properties has increased dramatically within the last 90 days and includes a 400% increase in loans on the watch list from 2019, pre-pandemic, to today, mid-pandemic. Many of these loans will end up in foreclosure over the next 24-36 months.

To put everything into perspective, it took over three and a half years, from 2009 to 2012, to get to these levels within 90 days.

The special servicer loan balance increased from $5.7B to $18.87B in less than 90 days and went from a total of 297 loans in special servicing to over 1,798 in the last 90 days. New York loans account for 7% of the nation’s total only second to Texas. There’s no doubt that there will be distressed opportunities that will arise in the not-so-distant future.

For those looking to exit the market, it might seem like an inopportune time to sell now. But when considering the landscape, one might be well positioned to do so. One main reason being there is very little competition in the market. In fact, PropertyIDX, one of the leading commercial listing services for New York City, has recorded half the amount of new listings coming to market since March compared to the same period last year. The number is 148 to be exact for a total only $305 million compared to 301 and $650 million respectively. Currently, IDX only has 195 active listings on their site.

As a result, we have witnessed new listings brought to market received with open arms. In one case at 19 First Avenue, we have generated a dozen offers in one week. The property is mixed-use with a restaurant which has continued to pay rent throughout the pandemic. For two office properties on 14th Street and 47th Street, we have had similar amounts of activity with several of the offers being submitted sight unseen. Many buyers seem to be embracing the virtual tours as a substitute.

So how long are we going to be in this moment in time? It might be a prolonged period. Banks have not felt the pressure because of the Stimulus and easing of governmental regulations for classifying loans and reserves. The court closures and backlog accompanied by the leniency for tenants who have been unable to pay rent will also likely prolong a reset. Thus, it would seem most agree this will be a U shape recovery at best and not a V.

That all being said, if 2009 is any indication, there will be a buildup in supply, followed by a correction, and then increased sales activity. Although the circumstances are much different than the last financial collapse, the sales numbers could look very similar. In 2009, the dollar volume of trades dropped 90% from the last peak in 2007. But then, something interesting happened – sales volume doubled in 2010 and then doubled again in 2011 and again in 2012.  It wasn’t until the bank started selling off bad loans and REOs that buyers jumped in albeit at steep discounts. Ultimately, the market did fully recover with the all-time high in 2015, but it took six years.

An interesting take away is that multifamily pricing from 2009 to 2010 actually decreased even though perceived market conditions were getting better. Although there was more than quadruple the number of dollar volume in 2010 at $1.7 billion, the price per square foot dropped 12% to $693/SF. Could the same discount hit next year in 2021 even though dollar volume will almost undoubtedly pick up?

Those considering selling should be instructed by the last correction by either transacting now or realizing if might take many years to wait for a recovery.